The watchdog takes a nap

We opine this morning on how the SEC utterly dropped the ball on Bernard Madoff, and what’s to be done from here.

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The question of “What went wrong?” at the Securities and Exchange Commission that allowed Bernard Madoff to run a $50 billion Ponzi scheme might better be, “What didn’t?”

Five SEC investigations — if they can be called that — and 16 years worth of complaints and even warnings from its own staff that something was amiss failed to reveal that Mr. Madoff was engaging in possibly the biggest fraud in history.

Incompetence? Sounds like it. The SEC should of course see if its procedures and hiring standards are all that they ought to be. With this much money involved — this much temptation — it’s also incumbent on the SEC to take a much closer at who was doing the shoddy work.

The SEC’s inspector general, David Kotz, said the agency’s enforcement staff almost immediately caught Mr. Madoff “in lies and misrepresentations, but failed to follow up on inconsistencies.” Between 1992 and last December, when Mr. Madoff admitted to the massive scheme, the SEC received six “substantive complaints that raised significant red flags,” but failed to do “a thorough and competent examination.”

Among those sounding alarms, The Associated Press reports, was an investigator who told her superiors as far back as 2004 that Mr. Madoff’s information didn’t add up. The response? The investigator was assigned to work on something else. One of her two supervisors later married Mr. Madoff’s niece. Mr. Kotz’s report, however, says there is no evidence of any improper ties between SEC officials and Mr. Madoff.

Harry Markopolos, a fraud investigator, had told the agency repeatedly since 2000 that something was wrong — including the more-than-remarkable consistency of Mr. Madoff’s returns. He told a Senate committee last week that SEC staff “was not capable of finding ice cream in a Dairy Queen.”

Mr. Kotz’s report found the agency never even bothered to verify if Mr. Madoff, a former stock exchange chairman, was actually making the trades he claimed.

The new head of the SEC’s enforcement division, Robert Khuzami, told the Senate that an extensive restructuring of his operation is under way and that the agency is reviewing the Madoff missteps on an “employee-by-employee” basis. He vowed to “learn every lesson we can.”

Sen. Charles Schumer, meanwhile, proposes to better fund the SEC by allowing it to use all the revenue it collects, rather than give a portion to the Treasury for other uses. That would increase its budget by several hundred million dollars and allow it to hire more — and more competent — staff.

Keeping an eye on a high-powered, ever-changing industry whose wrong moves can wreck economies on a global scale and destroy the financial security of millions of individuals and their families can’t be a half-hearted job.

Congress also needs to look at what it has done wrong over the years, and put a full set of teeth back into the nation’s financial regulations. It must also recognize that those teeth aren’t worth much unless they’re attached to a genuine watchdog. One that’s well trained, properly fed and not kept on a short leash.